How to Invest Your Inheritance

Published on November 7th, 2017 by Christian

Nobody looks forward to the death of a family member or loved one. Everybody grieves differently, but many people may find it difficult to deal with the new financial responsibilities that may come with an inheritance.

Especially if you are young and financially inexperienced, coming into a sudden windfall can be as stressful as it is beneficial. Studies show that a third of Americans blow their inheritances within two years of receiving them.

Don’t be a part of that one third. Taking the proper steps to save, grow, and spend your inheritance wisely can set you up for a comfortable and rewarding financial future.

Step 1: Know What You’re Getting (and What You Have to Give the IRS)

Sometimes an heir will be bequeathed with cash, but more often than not your inheritance will come in the form of a trust, a fund such as an IRA or 401(k), or property. Depending on which, you may have to pay taxes.

In practice, very few estates are subject to federal taxes when willed to a beneficiary. However, if you inherit stocks, bonds, or an investment account like a 401(k), then dividends or interest that accrue will be taxed as income.

Some states (and Washington DC) also levy their own estate taxes. These states have varying exemptions, ranging from $5.45 million (matching the federal exemption) in Hawaii and Maine all the way down to only $675,000 in New Jersey. It is important to look up the laws in your state if you expect to come into an inheritance in the future.

Step 2: Figure Out How Much You Can Spend

In order to make a solid plan for your new wealth, you will need to know exactly how much you have available for spending, saving, and investing.

If you’ve inherited a trust, then in most cases your trustee will be responsible for managing your new assets in accordance with a set of guidelines set out in the trust agreement. Make sure you read the agreement closely and that you understand the terms completely.

With IRAs or 401(k)s, you have several options. If the deceased was your spouse, then you can transfer the account into your name and continue to operate it as if it were your own. You can also take a lump-sum payment, but any payments or withdrawals will be taxed as regular income.

If you inherit an investment account from someone other than a spouse, then your options are more limited. You can take the lump-sum payment, you can spread your payments out over your lifetime, or you can agree to withdraw the money within five calendar years of the year in which your benefactor died.

Finally, there is real estate. If you are left a piece of property with sentimental value, you may not want to liquidate it immediately. Operating it as a rental property is an option, if you are able. Just be sure that if the property has a mortgage that you can afford it. American Homeowner Preservation cannot buy every distressed mortgage in America (yet…)!

Otherwise, consider liquidating the property. Now it’s time to decide what to do with the cash…

Step 3: Slow Down

…or is it?

A windfall of cash may fill you with excitement about all of the new things you can suddenly afford, but remember that one-third statistic. Don’t be one of those people!

Let the excitement wear off before you do anything. Spend some time talking to attorneys, accountants, and financial advisors to find people you are comfortable with. Having a trusted team of people to consult with may prevent you from making any major mistakes with your money.

When you’ve given yourself enough opportunity to think and decide upon some financial goals…

Step 4: Invest!

It may be tempting to buy that flashy new car or take that luxurious vacation you’ve been wanting for a while, but future-you will appreciate it more if present-you prioritizes maintaining and building wealth over splurging. Investing at least some of your inheritance can help to pay for future expenses such as a child’s education, a home, or retirement.

By this point you should have outlined some clear financial goals for yourself. If you’ve not yet started saving for retirement, this is your chance to catch up (it’s never too early). Real estate is an option for building wealth long-term, as are bonds and index funds.

Opening a Health Savings Account is another option, especially if you are young and healthy – go ahead and make that maximum yearly contribution right away. An HSA will keep your money tax-free, and can help you cover medical expenses if you choose a high-deductible insurance plan. It is also a good vehicle to save for medical expenses during retirement.

You can also make direct investments. AHP, for example, is a fund that purchases nonperforming mortgages at huge discounts, then shares those discounts with the homeowners to prevent foreclosure. We are a social impact company, but that does not mean we can’t also be a great investment – our funds have historically returned between 9% and 12% to investors. We accept investments as low as $100 (go ahead and throw a Benjamin in there and see for yourself how it works) and one need not be an accredited investor to invest.

There are a lot of options out there. Whether you’ve never had enough money to break into investing before or you already have a strong portfolio, taking your inheritance and directing as much of it as possible towards growing your wealth is always a smart move.

Finally…

Step 5: Treat Yourself

It’s stressful and emotionally draining to lose someone you love. It’s important to make wise financial decisions, but it’s also important to take care of yourself.

Once your financial goals have been met, now is the time to use whatever’s left on yourself. Pay some old debts to alleviate some stress, or make any purchases you’ve been putting off for lack of funds. If you still have money left over after all this, then go ahead and buy that car or boat, or take that vacation.

And even if you decided to invest the vast majority of your inheritance with nothing left over for spending, put a tiny bit aside, even if it’s only enough for a nice dinner. Just be sure to make a toast to the person who left you all this money.

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